9/11/2009 @ 6:00AM

When Great Fund Managers Retire

Mutual fund managers tend to be a little older than the rest of the population. This makes some sense–it’s not an easy job to get, the skills necessary to do it well are hard-won by experience, and though there are certainly younger managers out there (Fidelity’s farm system moves people from analyst to sector funds at a relatively young age) investors are understandably more comfortable putting money with an investor who has lived through a few bull and bear markets.

Martin J. Whitman, chief investment officer of Third Avenue Asset Management is 84-years-old and still going strong. He recently led his firm in a revamp of its investment strategy so that his managers will include distressed debt in all of its domestic funds as a way to capitalize on the economic recovery. His firm recently launched its first all-credit fund called Third Avenue Focused Credit. Whitman has said he’ll retire only when he’s not mentally able, but he announced his successor in 2006, and it’s clear if you visit his firm that every analyst and manager has been well educated in the Whitman way of go-anywhere deep- value investing.

Still, Fidelity Magellan, despite having a litany of talented managers has never been quite as good a fund as it was under Peter Lynch, and under Lynch it wasn’t even quite as good as it was under Fidelity founder Ned Johnson.

Our mutual fund experts take on the tricky topic of how much investing talent can be handed down from one manager to another and what goes when the star managers decide to pursue other interests.

Wiener: No manager is an island. They have teams of analysts/assistants, and what you want to know is whether anyone on the team has ever had responsibility for “pulling the trigger” on buys or sales. If so, and the existing manager can document the team member’s successes or failures, then you have something to work with. If, however, the manager is, and has been the only trigger-puller then you may have an issue with succession. I believe in Marty Whitman’s case he’s had several people working at his side who have had portfolio management duties that included trigger-pulling. But to me that’s one of the keys.

Gates: I think all of the people on our portfolio management team could be replaced. I just do not think that many people in this world are so terribly unique that you can’t find someone else to do their job. And our business is no different.

Of course, before replacing someone on our management team, it would be nice if we could get the new person fully integrated in our process and system. To do this, they would need to be able to work with us for an extended period of time. In addition to fully understanding the job’s requirements, they would also need to obtain insights and wisdom that we have gathered. (The market offered some great lessons the last couple of years!) In other words, it would just be nice if we had a relatively smooth transition.

By working with us for a long period of time, our management team could also fully vet out the new person to make sure that we think they would be successful in our job.

Corsell: It is worth noting that the SEC requires a fund prospectus to include the names of those individuals who are “primarily” responsible for day-to-day investment decisions. In effect since at least the early ’90s, this disclosure rule was triggered by precisely the situation you suggested: Fund groups were marketing their celebrity managers. In those days, you might see Peter Lynch on Fidelity sales literature–but not highlighting manager departures or retirements.

Taking a page from Dan’s book, most funds take care to identify more than one primary–and prime them.

From a practical perspective, I wonder if the “star manager” issue is less a regulatory issue because of the prevalence of “asset class” funds that fail to track their index relatively closely.

Lowell: For fund investors, the managers are the market–the tradable investment instruments, most of whom strike sour performance notes enough to rule them out in perpetuity. Then there’s the muddled middle, managers who have good bull or bear market strengths (but not both) with inconsistency their constant companion. Then there are the few hundred who consistently do what shareholders ostensibly pay every active manager to do: They outperform both relatively and absolutely.

Such managers are often catered to by the media and marketed to by the firms, but the fund firms are usually quick to underscore their necessary role in making such managers possible. The reason for that feint is straightforward: No firm wants assets to leave with a departing star manager. That issue, by virtue of the aging population of managers alone, will make buying stellar managers and any given fund harder to do while, at the same time, the new crop of analysts is creating the next deep bench where some will play, and a few will play well.

Being able to track each and every individual manager’s career track record ought to be a front-and-center feature of any prospectus. Would you trust an NFL coach who simply put players on his team based on where they went to school–no. You’d want that coach to build a team based on each player’s career stats. In my playbook, that’s the only way to build a team of managers who can take the field on any given day.

Bold: Whenever a manager leaves a fund, for any reason including retirement, we immediately reevaluate whether or not we should we continue to hold the fund. In many cases, the manager is replaced by his personally trained protégés. In that situation, we generally are willing to give the new management the benefit of the doubt for some time–but we do watch the performance more closely than we otherwise might.

In today’s world, there are many management changes that are happening because of fund company mergers, and financial cutbacks. In some of those situations, I have seen really good managers replaced by merely adequate or even sub-par managers. Obviously, we would sell those funds and replace them with something else.

Regardless, investors need to remember that a mutual fund is not an entity unto itself. Rather, it is a pool of money where someone has to make buy, sell and hold decisions every day. If the name of the fund stays the same, but the manager changes, it’s not the same thing. If the Giants replaced Eli Manning with say, me, the team would still be called the Giants, the uniforms would be the same, the coaches would be the same, but I’m pretty sure the results would be different. Even if he were replaced by some promising rookie QB, it might or might not work out well.

The same is true for mutual funds. It’s the manager that counts.

Corsell: This is the way the fund board has to operate where there are subadvisors responsible for investment decisions and, as you know, there are many, many of those. “Manager of manger” funds often do (and always should) have supervisory procedures to track such matters/changes.